This matter comes before the Court on appeal of the Bankruptcy Court's Order on Reorganized Debtor's Motion to Subordinate Non-pecuniary Tax Penalty Claim of the Department of the Treasury-IRS as Set Forth in Claim No. 67 (Doc. #1-3). Appellant filed a Brief (Doc. #10), appellee filed a responsive Brief (Doc. #18), and appellant filed a Reply Brief (Doc. #21). For the reasons set forth below, the Court reverses the decision of the Bankruptcy Court.
The United States District Court functions as an appellate court in reviewing decisions of the United States Bankruptcy Court. In re Colortex Indus., 19 F.3d 1371, 1374 (11th Cir. 1994). The legal conclusions of the bankruptcy court are reviewed de novo, In re JLJ, Inc., 988 F.2d 1112, 1116 (11th Cir. 1993), while findings of fact are reviewed for clear error. FED. R. BANKR. P. 8013; In re Thomas, 883 F.2d 991, 994 (11th Cir. 1989), cert. denied, 497 U.S. 1007 (1990). After examination of the briefs and record, the Court finds that oral argument is not needed because the facts and legal arguments are adequately presented and the decisional process would not be significantly aided by oral argument.
The underlying facts are undisputed. On January 13, 2005*fn1 , the debtor Morande Enterprises, Inc. (debtor) filed a voluntary petition for Chapter 11 relief. At the time of filing, debtor owed the Internal Revenue Service (IRS) $208,326.40, consisting of $153,321.24 in taxes and interest, and $55,005.16 in penalties for unpaid FICA taxes in 2003 and 2004. The IRS filed a proof of claim for the following: Secured claims totaling $118,851.03 for debtor's FICA tax liabilities for taxable quarters ending June 30, 2003 through March 31, 2004; priority claims totaling $78,125.00 for FICA taxes and interest owed by the debtor for the last two quarters of 2004 and an estimated claim for 2005; and a general unsecured claim of $14,973.90 for penalties on the priority claims. (Doc. #11, pp. 2-3, 4.) Shortly thereafter the IRS amended its claim (Claim 67) by reducing its priority claims to $74,501.47. (Id. at p. 5.)
On April 10, 2006, debtor filed a Plan of Reorganization (Doc. #1-16); on May 27, 2006, the debtor filed a Plan of Reorganization (as supplemented) (Doc. #1-19); and on June 21, 2006, the debtor filed a First Amendment to Plan of Reorganization (as supplemented) (Doc. #2-15). Each version of debtor's Plan provided for the pro rata treatment of all unsecured creditors (Class 3 Claims.) Notice of the Plan was sent to all creditors, and all general unsecured creditors who submitted ballots voted to accept debtor's plan.
On July 14, 2006, the Bankruptcy Court entered an Order Confirming Debtor's Plan of Reorganization as Supplemented, Amended and Modified, Pursuant to 11 U.S.C. § 1129 (Doc. #2-17). On December 6, 2006, the Bankruptcy Court entered an Order Approving First Modifications to Debtor's Confirmed Plan of Reorganization as Supplemented, Amended and Modified Pursuant to 11 U.S.C. § 1129 (Doc. #3-11). The modifications did not affect the treatment of general unsecured creditors. As relevant, the Bankruptcy Court's Order provided:
The First Modified Plan satisfies Section 1129(a)(7) of the Bankruptcy Code in that with respect to each Impaired Class of Claim or Equity Interests, each Holder of a Claim or Equity Interest of such Class (i) has accepted the Plan or (ii) will receive or retain under the First Modified Plan on account of such Claim or Equity Interest property of a value, as of the Effective Date, that is not less than the amount that such Holder would so receive or retain if the Debtor were liquidated under Chapter 7 of the Bankruptcy Code. (Doc. #3-11, p. 6, ¶ vii.)
On December 20, 2006, debtor filed a Corrected Objection to Claim No. 67 Filed By the Department of the Treasury - Internal Revenue Service (Doc. #3-13) stating that debtor had no property to serve as collateral and seeking to strike and disallow the secured portion of the claim, and instead treat that portion as unsecured. See also Response (Doc. #3-14). The IRS determined that debtor did lack sufficient property to secure the claims, and on June 5, 2007, filed a second amended proof of claim (Claim 67-2) which reclassified its secured FICA and interest claims as unsecured priority claims and reclassified the penalties on those claims as unsecured general claims. The Corrected Objection was sustained and Claim 67 was deemed amended and superseded by Claim 67-2, which was accepted by the Bankruptcy Court. (Doc. #4-2.)
On May 25, 2007, after the Bankruptcy Court's approval of the Plan, debtor filed a Motion to Subordinate Non-pecuniary Tax Penalty Claims (Doc. #3-15). See also Opposition (Doc. #3-17). On June 7, 2007, the Bankruptcy Court conducted a hearing on the Motion to Subordinate. (Doc. #4-8.)
On June 29, 2007, the Bankruptcy Court entered the Order on Reorganized Debtor's Motion to Subordinate Non-pecuniary Tax Penalty Claim of the Department of the Treasury-IRS as Set Forth in Claim No. 67 (Doc. #1-3) granting the debtor's motion to subordinate. The Bankruptcy Court noted that the debtor conceded that the equitable subordination provision, 11 U.S.C. § 510(c)(1), was not applicable because the government was not involved in any inequitable conduct. The Bankruptcy Court, however, seemed to accept debtor's argument that it could subordinate the tax penalty claim and could consider the equities of a particular situation by applying 11 U.S.C. § 726(a)(4) to a Chapter 11 case even though "technically" this section had no application to the Chapter 11 case. The Bankruptcy Court relied on the reasoning and analysis of United States v. Reorganized CF & I Fabricators of Utah, Inc., 518 U.S. 213 (1996) although recognizing that CF&I Fabricators concerned § 510(c). The Bankruptcy Court found:
Concerning the totality of the circumstances and equities of the case, this Court is satisfied that subordination would be proper based on the following. First, this is a total liquidation Chapter 11 Case. Second, the tax penalty claim is clearly a non-pecuniary claim. Third, the IRS will receive full payment plus interest on the actual tax claims asserted in Claim No. 67. Fourth, after the payment of administrative claims and priority claims, the monies available for distribution to general unsecured creditors will currently yield only a partial dividend. Therefore, based on the foregoing, it would be clearly inequitable and unfair for this dividend to be further diluted by having the reorganized Debtor pay the tax penalty claims to the detriment of all allowed claims of the general unsecured creditors. (Doc. #1-3, p. 5.) The effect of the Order was to subordinate the $55,005.16 non-priority tax penalty claim in favor of other unsecured creditors in the class. The Notice of Appeal was filed from this June 29, 2007 Order.
The IRS does not dispute that § 5.14 of the debtor's Chapter 11 supplemented Plan reserved debtor's right to seek modification of the plan to subordinate any claims to the extent permissible under the Bankruptcy Code. (Doc. #21, p. 6.) It is also clear that the Bankruptcy Court has the general authority to modify a plan after confirmation. 11 U.S.C. § 1127(b). The IRS argues, however, that the Bankruptcy Court was without authority ...